Do Firms Rebalance Their Capital Structures?

ABSTRACT

We empirically examine whether firms engage in a dynamic rebalancing of their capital structures while allowing for costly
adjustment. We begin by showing that the presence of adjustment costs has significant implications for corporate financial
policy and the interpretation of previous empirical results. After confirming that financing behavior is consistent with the
presence of adjustment costs, we find that firms actively rebalance their leverage to stay within an optimal range. Our evidence
suggests that the persistent effect of shocks on leverage observed in previous studies is more likely due to adjustment costs
than indifference toward capital structure.